This is not the case in the “emerging markets” or “developing countries”. While there has undoubtedly been a gradual trend towards freely floating exchange rates within the emerging markets, whether willingly or otherwise, many still have some form of peg arrangement, depending to some degree upon their state of development. Thus the question of the type of exchange rate system — fixed or floating — remains particularly pertinent for currency market practitioners who are involved in the emerging markets. In order to suggest how currency market practitioners might deal with exchange rate system issues, it might be useful to explain first why these exchange rate systems came about in the wake of the developments of 1973 and how each type works.
When — or if — one thinks about the 1970s, it is usually from a political perspective, as a time of war and revolt against war, as a time of political and social revolution. Nowadays, many of the protestors of that time are in business. Politically, much has changed. The economic world has also changed massively, to some extent in line with some of these political shifts. The decline of the Soviet Union coincided with the decline of the socialist attempt at economics. People who were finally able to turn on their television in the Warsaw Pact countries and tune them to Western stations found they had been lied to for a generation. The triumph of capitalism was confirmed. From that time, when West and East no longer glared down the barrel of a gun at each other (or more aptly the nose cone of an ICBM), such terms as “market economy” and “globalization” have developed. Just as we now take for granted floating exchange rates, so we also take for granted free trade and capital mobility, yet many of these were the direct result of the end of the Cold War.
With the decline of the Soviet Union and the end of the Cold War, emerging market countries have been able to move away from being mere chess pieces in a bi-polar world. Crucially, the breaking down of barriers to trade and capital, which began in the late 1980s and accelerated in the 1990s, has allowed them to participate to an increasing degree in the global economy. As the role of the emerging markets has increased within the global economy, and perhaps more specifically within global financial markets, so the pressure has grown on them over time to adopt more flexible exchange rate systems to be able to absorb the periodic shocks that free trade and free capital markets entail.